Venture capital firms facing tougher times

Poor returns on investments, bad economic climate taking their toll

Part of the fundraising problem for both VC funds and the local biotech companies that depend on those investment dollars is the lack of exit strategies that allow VCs to recoup their capital and make a tidy profit, experts say. VC funds typically invest in companies over a period of years, then profit later when they go public or are sold.

But in the current economic climate company valuations remain low, financing difficult, and there is little appetite on Wall Street for IPOs.

“I think the VC industry is in the middle of a cycle that will end with one-third fewer funds and half as much money invested in venture capital,” said David Mott, general partner of New Enterprise Associates, which ranked third last year among U.S. venture capital firms that invested in biotech and life-science companies. “There is a real culling of the herd that is happening now.”

Today, the number of active VC firms is nearly one-third less than in 2000, when 1,326 venture firms or corporate venture units did one or more deals.

Industry experts say limited partners — those who invest their money in VC funds — are putting more money in funds that invest in companies in all stages of development. Those funds that focus mostly on early-stage companies, or mature ones, are getting far less.

Seventeen multistage funds attracted $3.1 billion during the first quarter. That is 76 percent of the capital raised by the venture industry during the quarter and more than double the amount raised during the same period last year. Sixteen early-stage funds raised a distant $605 million, down 36 percent from the same period last year. And one late-stage fund raised $400 million, down 17 percent.

“Limited partners are hedging their bets by choosing multistage funds,” Rossa said. “They are reluctant to dive too heavily into early-stage funds, which can take longer to produce returns, or later-stage funds, which will remain unattractive until the liquidity markets hit their stride again.”

New Enterprise, whose 13th fund raised $2.5 billion last year, is not among the VC firms that are feeling much pain. But like most VCs, the partners are treading cautiously with their investments.

New Enterprise, which has offices in Menlo Park and Maryland, has invested in several San Diego life-science companies in the past, including Cadence Pharmaceuticals and Anadys Pharmaceuticals, as well as the former Aurora Biosciences and Xcel Pharmaceuticals, which were both acquired by other companies.

This year, New Enterprise made a $10 million investment in Zyngenia, an early-stage Maryland biotech that has its scientific roots in La Jolla’s The Scripps Research Institute. The biotech’s technology for creating antibody drugs was developed by its Chief Science Officer Carlos Barbas, who is also chair of the Departments of Molecular Biology and Chemistry at Scripps.

Under the current climate, most VC firms are making investments in companies with products in later-stage development, or doing “asset beautification” — licensing in a product, taking it to the next stage in a capital-light virtual company, and selling it to someone else for further development, Mott said.

Few firms are doing “good old fashioned venture capital” — investing in new, riskier technology or early drug development, which can take years to reach fruition, if at all, Mott said.

“We still have the ability to back up the truck and invest in a new technology or the big idea that has the potential to change medicine,” Mott said. “But we are one of the few firms that can do that in this marketplace.”